Which one of the following is a disadvantage of the corporate form of business?
1. Limited liability for shareholders
2. Ability to raise capital through issuing stocks
3. Double taxation of profits
4. Ease of transfer of ownership
Option 3 is the answer. Double Taxation is the disadvantage of the corporate form of business. To understand this option is a disadvantage, we must learn each options and their position with respect to the corporate form of business.
Limited liabilities of shareholders
Business and shareholders are treated as separate entities in the corporate form of business. It is an advantage for businesses as owners and shareholders are not responsible for the business loss or debt. The finances of the business and the owner are separate from one another; the financial loss or debt are the sole responsibility of the business only. This distinction provides legal protection for shareholders' assets and income even if the business fails.
Ability to raise capital through issuing stocks
Establishing and operating a business requires capital. There are two ways to raise capital; debt or equity. Corporate forms of business can raise capital by issuing stocks. They can sell their shares to collect cash in exchange for the percentage of ownership. Investors become partial owners of the company and there is no regulation of paying back the debt. So, this is one advantage for corporations.
Double taxation profit
Corporations are forced with the double taxation system. This means that the business income is taxed in two stages. Corporations need to pay tax for their annual income at the entity level and shareholder level as well. This occurs because the business is recognized as a separate entity from the shareholders. Corporations pay tax from their annual revenue but for the dividend payment of the shareholders, income tax liabilities are also incurred. It increases the tax burden for the corporation.
This system can impact the investment decisions of the business. This may influence the corporation to choose debt financing over equity financing as debt is deductible before taxation but dividends are not. Similarly, foreign companies with lower tax rates can have a competitive advantage over corporations working under higher tax rate jurisdiction. So, this is the major disadvantage of corporations.
Ease of transfer of ownership
In a corporation, ownership can be easily transferred through the buying and selling of the shares. This means that the owner can easily leave the company. Owners do not face much hassle and this feature is the advantage of corporate form of business
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